What is the IG Client Sentiment Indicator?
The client sentiment index or report is a free tool provided by IG, one of the oldest CFD brokers worldwide (established in 1974). IG provides real trading data reflecting the percentage of their active clients net long or net short on a specific instrument and then showing an overall signal (bullish, bearish, or mixed).
This data is updated daily, tracking any changes between both biases. This tool covers some of the most popular forex markets like EUR/USD, EUR/JPY, AUD/USD, USD/JPY, and other well-known non-forex markets such as Bitcoin, Ethereum, US crude oil, and the S&P 500.
Only a tiny portion of brokers provide position summary information to the public, making this indicator a fascinating, insightful, and somewhat under-utilized addition to a trader’s toolbox, especially those who look at long-term trends.
What is sentiment?
To understand why this type of indicator can be powerful, one needs to grasp the sentiment concept. In any tradable financial market, the two most common strands of analysis are technical and fundamental.
Sentiment analysis is rarely a topic that’s typically discussed in trading communities, although it does deserve merit. The sentiment is strange because it’s inherently based on market participants’ emotions (or ‘sentiment’) and crowd psychology, whose attitudes are an accumulation of various fundamental and technical factors.
As a simple representation, when there is a general expectation of a bull market, the sentiment is said to be bullish, positive, or optimistic (the opposite applies for a price decline – bearish, negative, pessimistic).
This statement is the easiest way of concluding sentiment. An immediate distinction of sentiment is as a contrarian indicator, which is the most important yet unusual to consider.
Why is this sentiment index a contrarian indicator?
The main reason this sentiment indicator is regarded as contrarian stems from the objectives of retail and institutional traders. Retail investors tend to trade against the trend or ‘pick tops and bottoms’, creating a trap for institutional traders or the ‘big boys’ who have enough power to drive price in the opposite direction.
In the image below, we see a prime example of this phenomenon.
Also, retail traders often buy right at market tops or sell right at market bottoms, without realizing this could be in strong support or resistance zones. Since these areas feel ‘safe,’ this can create another trap for the ‘big boys’ to take price the other way.
How to interpret the IG Client Sentiment Indicator?
Any sentiment indicator is a graphic or numeric depiction of the percentage of traders currently in long (buy) positions against those in short (sell) ones. In IG’s case, the broker provides a general summary and a more detailed report on the net long and net short positions of the relevant markets.
In the image above, we can see the overview.
- Net long and net short (the percentage of traders currently long versus those currently short).
- Signal (this can either be bearish or bullish or mixed depending on the discrepancies between buyers and sellers). If there are tremendously more net short positions than net long ones, the sentiment is bullish. If there are tremendously more net long positions than net short ones, the sentiment is bearish.
Furthermore, for each market, IG provides a better graphical representation and daily-updated reports to ensure traders can view the actual price movement against the sentiment data.
They also provide the brief results of the data, changes from the previous days and weeks, and what the eventual directional bias should be (see image above).
Methods of using the IG Client Sentiment Indicator?
This section is the most critical and will provide practical and actionable tips for implementing this indicator. Depending on the trader, this tool can either be the first or last point of reference.
Short-term investors like scalpers and day traders are unlikely to benefit from this tool. Although anyone can view changes daily, it usually takes time to see the real effect of these results. For long-term trends, we can clearly observe sentiment.
Regardless, one still needs to perform their technical analysis aside from observing the sentiment data. Any sentiment indicator shouldn’t be a primary motivation for taking a position but could act as a confirmation and an observational tool.
We also should not attempt to ‘time the market’ with this index. Broadly speaking, traders can use the IG Client Sentiment Indicator in two ways:
Trend confirmation and continuation
One powerful method of using this indicator is to confirm the extent of an existing trend. Let’s look at the EUR/USD sentiment report below.
Ultimately, to confirm the likelihood of a trend continuing, one needs to look for extremes between net long and net short positions. Since August 2020, we can see the red line (representing net short) was wide away from the blue line (representing net long).
Until there is a cross between the two, traders should consider bullish directional bias. We can observe the lines spreading apart at various intervals by comparing the number of net short and net long clients on the axis. As the red line rose (suggesting more sellers), the trend continued to rise.
Similar to trend changes, we could consider looking at when the extremes change. Let us assume, and according to our technical analysis, a particular market is at a critical resistance level on an uptrend.
To confirm the reversal, we would need to see an overwhelming number of net long clients against net short ones. This idea feeds into the narrative that aside from retail traders going against the trend, they also tend to buy when a market is too ‘expensive’ or sell when it’s too ‘cheap.’
Pros and cons of using the IG Client Sentiment Indicator
- This indicator is entirely free of charge. For the level of detail in terms of data representation, this tool can prove beneficial.
- Traders gain an insight into the actual percentage of real clients buying or selling in a particular market rather than imagined or hypothetical figures.
- This sentiment indicator is a lot easier to read and comprehend than the more intricate Commitment of Traders (CoT) report.
- We could regard such a sentiment indicator as leading since it often changes on a frequent, real-time basis along with actual client positions.
- Although the CoT report can be harder to digest, at least 250,000 clients are covered, making the data microcosmic in the grand scheme of the larger forex markets. The CoT shows the positions of institutional traders who have more significance than retail clients.
The sentiment index provided by IG is an excellent service to help us understand the forex markets uniquely. These are the key takeaways we should note:
- Sentiment analysis is best for swing and position size traders who look at long-term trends.
- We cannot use the index as a primary indicator nor as a timing one. It merely helps with reflecting a directional bias, which we may consider aligning with.
- For traders interested in sentiment, the CoT report may be a better option as it accounts for the orders of institutional traders instead of retail ones.
- Although we could think of the index as a leading indicator, as with any tool, traders cannot use it in isolation.